D R A F T

FOR DISCUSSION ONLY

Contact: Stephen Gerritson, LADCO, 847-296-2181

"Economic Incentives and Disincentives as an Adjunct to Sanctions"

I.	Introduction

This paper is an attempt to introduce some ideas for incentives for early compliance, and disincentives for noncompliance, with the timetables established for preparing and implementing State Implementation Plans. These ideas are not meant to replace the use of sanctions by USEPA, but rather to make their use unnecessary. Moreover, the ideas presented here are conceptual, not programmatic; that is, there has been no attempt to provide the details of how a proposal would be implemented. Those ideas which are seen as having promise may be addressed in more detail in subsequent versions.

II.	Background

The current system of sanctions operates as follows. If a deadline is missed, USEPA notifies the state that a "sanctions clock" has been started; the state then has eighteen months to remedy the situation in a manner acceptable to USEPA. When the state does so within the time alloted, the sanction clock I stopped and no penalty is applied. If the problem is not corrected within the eighteen-month period, USEPA can apply one or more of the following sanctions: an increase in the offset ratio required for new sources within the nonattainment area; loss of federal (Section 105) funds to the state air quality agency; loss of federal highway funds; and the loss of the right to prepare a State Implementation Plan (i.e., the imposition of a Federal Implementation Plan).

There are three major deficiencies in the current system. First, the 18-month sanctions clock in reality gives the states an automatic extension on legally established deadlines. Since there is no penalty for missing a deadline but fulfilling the requirements within the 18-month period, there is no real incentive to comply with the nominal timetable (other than the threat of lawsuits by outside organizations). Second, because of the severity of the penalties, USEPA is reluctant to apply the sanctions even when warranted, for political reasons. In fact, in one recent instance when USEPA attempted to replacea state plan with a FIP, the Agency was forced to back down when political pressure was applied.

Finally, application of three of the four sanctions would actually worsen air quality rather than improve it. Removing the Section 105 funds from the state air quality agency would result in a significant reduction in the state agency's capacity. Removing highway funds would make it impossible for the state to make transportation system improvements which reduce congestion, improve traffic flow, or change traffic patterns. Increasing offset ratios would make it more likely that firms would locate outside of the nonattainment areas, where no offsets (and fewer controls on emissions) are required.

In fairness, it should be noted that sanctions are rarely applied, because the states by and large meet their deadlines (with the 18-month extension).

III.	Proposed Incentives

A.	Principles

Prior to discussing incentives, the goals, assumptions, and principles used should be noted. The goals of this paper are to create a climate for the encouragement of early reductions, and for the preparation of SIPs earlier than required; and to discourage, through the use of appropriate disincentives, delays and missed deadlines in the preparation and implementation of plans. The assumptions or principles are as follows:

1) no proposal should make any situation any worse (i.e. no backsliding);

2) positive incentives should encourage early compliance (states should not be rewarded for merely meeting the deadlines); and

3) negative incentives should be applicable immediately and should "fit the crime."

B.	Positive Incentives

Several incentives or "rewards" are seen as possibilities in encouraging states toward early compliance with planning requirements. A reduced offset ratio could be granted to those areas which require offsets, making it easier to attract new industry. As an alternative, additional offset credits could be granted, although a pool of offset credits would have to be established. Finally, increased flexibility could be granted, either through a variation on the Flexible Attainment Region conept, whereby states are granted extra time to deal with future violations in a flexible manner, or through "trading" certain mandatory but onerous measures (such as Nox RACT, NSR, or conformity) for other equivalent but less distasteful ones.

Reduced offset ratios: A state which complied with its requirements earlier than the deadline (just how early would qualify is an unanswered question) could be rewarded by a reduction in its offset ratio for new sources. Currently, (and presumably under the new AOV/AOI system), new sources locating within a nonattainment area must find offsets for their projected emissions at a ratio greater than one, depending upon the severity of the area's classification. That is, for every ton the new source would emit, reductions in "old" sources of 1.2 to 1.5 tons must be found. Reducing this ratio would make attracting new industry easier, and would help prevent the flight of new sources to attainment areas, where their emissions are uncontrolled.

Additional offset credits: States requiring offsets for new sources often maintain a bank or pool of credits, obtained from shutdowns, penalties, etc. States which meet the early compliance requirements could be awarded additional offset credits for this pool. These credits could be generated through setasides from USEPA's Open Market Trading Program, through penalties on others, or by soe other means.

Flexible response: Currently, a state which has been redesignated to attainment and then experiences violations of the standard must implement a contingency plan which includes automatic measures. Flexible attainment regions (of which there are now three) have additional time to "cure" the violation in a more flexible manner, through a combination of voluntary and required measures. We suggest that states which met the early compliance requirements could be granted a similar flexibility in meeting their emissions reductions requirements. This could include a variation on the FAR concept, or relief from specific measures, such as Nox RACT, provided that equivalent reductions were made.

C. Negative Incentives

As noted above, negative incentives are intended to be applied immediately upon a missed deadline, and should be seen as appropriate punishment for the "crime," but not so onerous as to cause a political response. These could range, depending upon the offense committed, from accelerated future deadlines to additional requirements, such as lower RACT thresholds, denial of variances or AELs, discounted credits, or reduction requirements imposed on the agencies of the state.

Accelerated future deadlines: For a minor first offense, the state could be told that the next deadline has been moved up six months, to ensure that it would not be missed.

Lower RACT threshholds: Depending upon the severity of the nonattainment area, sources above a certai minimum (25 to 100 tns per year) are required to install RACT. A state which failed to meet a deadline for filing could have this minimum reduced. This would have the added advantage of creating a lobbying group among industry for meeting the deadline.

Denial of variances or AELs: Variances and alternative emission limits are a form of flexibility which USEPA and the states can grant under certain circumstances. Failure to meet deadlines could result in the loss of this flexibility.

Discounted credits: Under a trading program, emission reduction credits would be banked at a certain value (generally par, unless there is an environmental setaside). States failing to meet their deadlines could have these banked credits discounted by some percentage. (Possible legal problem here?)

Additional requirements on state agencies: Since it would be the state, rather than emission sources, which missed the deadline, perhaps it should be the state agencies which must generate the extra reductions. This could be done through the imposition of mandatory carpooling or some other VMT reduction program, acceleration of the AFV program, etc.